The Fixation on the Fed



Regardless of what the Chairman of the US Federal Reserve said yesterday, including his "two words", the bigger issue is the extent to which the financial punditry continues to be so enthralled in the analysis of every word that comes out of the Federal Reserve, as if the Fed were the primary harbinger of growth in the economy.

This is total nonsense!  

The Fed is at the center of the world for bankers and financial engineers – so their obsession with monetary policy is understandable. But investors should be careful of confusing the financial world and the banking world with the world of real products and services, where the vast majority of real investment opportunities are to be found. 

The Fed has never invented any product, written a single line of software code, navigated a business through the volatility which it often fosters with its constant manipulation of currencies, and thus is a terrible determinant of a sound investment.  

Simply put, the Fed is better at getting in the way of innovation, which ultimately is what creates economic growth, than it is at fostering innovation.

And this same punditry, which has been calling for a recession every year since the end of the Great Recession of 2008-9, is back at it again.  They are once again stoking fear and consternation in the minds of investors of all stripes (individual and institutional) with their suggestions that the strong economy is likely headed for a downturn based on higher interest rates, "end of stimulus," Brexit, Italy's budget woes, and on and on!

This gets to the heart of why we don't "do the market"!  Okay, realistically, we have no choice but to occasionally do so when we want to buy or sell a company, but, truly, the best advice is to ignore these market fluctuations, comments from the Fed, comments from "Economists" (who rarely actually recognize the important trends in innovation), financial media "experts" (usually "traders") and pay attention to the businesses in which one is invested.  

We have long subscribed to the notion that we will own our businesses through multiple market and economic cycles as those businesses deliver innovation and creativity to their customers/clients and value to us as shareholders.  This is the way we believe we can get the best returns on our investment.


Disclosures: Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Taylor Frigon Capital Management LLC (“Taylor Frigon”), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from Taylor Frigon. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Taylor Frigon is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the Taylor Frigon’s current written disclosure Brochure discussing our advisory services and fees is available upon request. If you are a Taylor Frigon client, please remember to contact Taylor Frigon, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services.
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The Correction Begins


In our recent Investment Climate, we warned that a correction (maybe sizable) was inevitable.  It appears, at least in the prices for high technology and most "growth" companies, that the correction is here.

Frankly, while it is never fun to watch our portfolios drop in value, we have always said that it is a healthy byproduct of a functioning market that these abrupt, and sometimes violent, price movements happen.  We have experienced significant appreciation in the value of our growth portfolios over the last several years and sometimes the "payback" for that is what we are experiencing in the last few days.

We suspect this will take a few weeks to fully blow over, but the reasons for these machinations currently being lauded in the financial press (ie. China trade wars, higher interest rates, slowing economy, inflation, a too "hot" economy, a flat or inverted yield curve, Italy, the Supreme court battle, the mid-term elections, the Federal Reserve's monetary policy, etc., etc.) are all non-starters, in our view.  We would react to NONE of these issues, even the ones that directly contradict each other!

This is about the time that we trot out one of our mentor's, Richard Taylor's, favorite lines when navigating ugly markets: "are you going to let 1% of the shareholders of your businesses drive your decisions about what represents the true value of those businesses?"  In other words, since on any given day the trading volume in stocks represents roughly 1% of the total shares outstanding (of course, give or take), we don't want to let the trading tendencies of "traders" dictate our long term investment decisions.

We could comment on each one of the "reasons" for consternation in the markets today and refute them, or maybe even agree that there is reason for some level of concern regarding some (for instance, China trade wars).  But we would reiterate that none of the "issues of the day" are cause for us to change our overall views regarding narratives that are driving long term value creation in our companies. Even potential drawn out trade wars could ultimately serve to drag China into the 21st Century with respect to the rule of law and property rights related to another's intellectual property.  Could you imagine how much more value would be created if the rest of the world's software IP wasn't regularly pirated by bad actors in China (while the Chinese government generally looks the other way)?

Nonetheless, if one is laser-
focused on the businesses of the companies they own, much more so than the daily fluctuations of the stock price of those companies, we believe value will ultimately be sorted out reasonably,  And in a properly diversified portfolio, it will more often than not be sorted out favorably, over time, for the true investor!  Stay tuned.


Disclosures: Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Taylor Frigon Capital Management LLC (“Taylor Frigon”), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from Taylor Frigon. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Taylor Frigon is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the Taylor Frigon’s current written disclosure Brochure discussing our advisory services and fees is available upon request. If you are a Taylor Frigon client, please remember to contact Taylor Frigon, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services.
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Investment Climate Oct 2018 - Focus on the Business

We continued to see significant and broad-based gains in our growth strategies over the last quarter and have significantly surpassed the returns of the overall market averages, which have had pretty nice runs themselves.  Given this increase in company values, and the length of this post-2008/2009 crisis rally, many are asking us what to expect going forward the next couple of years?  While we certainly expect that a sizable correction is very likely (perhaps greater than 10% down), we simply don’t buy the persistent pessimistic argument that we have been hearing now for the last ten years that “doom” is surely right around the corner.  We simply respond, what corner?

Although we are sometimes accused of being “perma-bulls,” as just stated, we expect a sizeable correction at some point over the course of the coming months/years.  However, we have found over decades of investment experience that it has paid us well not to “play” the market.  As investors, we believe our focus should be purely on the fundamentals of the business in which we are investing.  The noise of the market can cause investors to make decisions that are based on technical, market-based issues and not the actual business of the company in which they have invested capital, thus leading to serious and costly errors.  While the price you pay for a business should certainly be a consideration before finally deciding to buy, it should not be the only consideration, and is best considered last in the decision-making process.

We are amazed by the amount of emphasis that is placed on “the Market”!  The market is an instrument, a technical mechanism that enables investors to purchase or sell; nothing more, nothing less.  And yet far more analysis is done on what the market is going to do than is done on the businesses of the companies that make up the market.  This is backwards, at least to us.  We posit that investors would be much better off considering the business merits of a company than the action of the stock price for shares of that company in determining whether or not to place their hard-earned capital into it.  Most of the financial media ask investment analysts what they think “the Market” is going to do far more frequently than they ask about the merits of the business of specific companies or about the environment for business overall.

This phenomenon is not just limited to the financial media -- most “hot” money managers nowadays are talking about how artificial intelligence, machine learning, and new algorithms are going to “enhance” their strategies for “trading” or, for that matter, serve as the sole basis for their entire strategy.  The dominance of this trend is simply overwhelming and has taken over the entire world of professional money management.  These managers have determined that math is more important than simple business “savvy” in making investment decisions (“investment” being the wrong descriptive term, since these are really “trading” decisions more often than not).  Color us skeptical, but we think that is nonsense!  And we have decades of proof from Richard Taylor before us, and Thomas Rowe Price before him, that our investment philosophy has lasted longer and has delivered better than average results measured in years, rather than in quarters.  The record is clear…


Disclosures: Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Taylor Frigon Capital Management LLC (“Taylor Frigon”), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from Taylor Frigon. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Taylor Frigon is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the Taylor Frigon’s current written disclosure Brochure discussing our advisory services and fees is available upon request. If you are a Taylor Frigon client, please remember to contact Taylor Frigon, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services.
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Have you heard of this company? KRNT


























We have written many times over the years about the investment philosophy that forms the foundation for our growth investment strategies, a time-tested philosophy descended from the approach developed by Thomas Rowe Price, Jr. (1898 - 1983) and pursued profitably by him for several decades.

It is a philosophy based not only upon investing in well-run businesses but upon investing in well-run businesses benefitting from powerful ongoing developments in their industry or in society at large. To explain by way of a metaphor, if individual companies were ocean-going ships, we would be looking not only for well-built vessels with good leadership and crews, but for seaworthy ships which were also positioned within powerful ocean currents which would assist them in reaching their destination.

Periodically, we highlight a company which we believe exemplifies this philosophy. 

Kornit Digital designs and manufactures high-definition digital printers and ink for textiles, used to print designs onto fabrics for the manufacture of clothing and other textile products, as well as onto finished garments.* Digital printing is transforming the textile industry and stands to benefit from many powerful "currents" driving greater adoption of the digital approach versus the traditional "analog" methods of textile printing.

Analog textile printing involves significant factory setup taking up lots of space and using costly equipment, a configuration which is optimized for large-batch production runs of several hundred or even thousands of garments or rolls of printed fabric. Once the operation is set up, it then becomes relatively inexpensive to crank out large numbers of garments, with the "cost per item" or "cost per print" going down as the batch size goes up. 

Flexibility is very limited once the print run is set up: the process is optimized for the production of large numbers of the same design or pattern. Setting up and operating the machinery is complex, labor intensive, and time consuming, as is making any  changes.

Digital textile printing, on the other hand, enables almost infinite flexibility. There is no complicated equipment to rearrange between printing one design and another: a digital printer can print a different design on every successive shirt, or every successive roll of fabric, without any changes to configuration whatsoever, in much the same way that your printer at home or at work can print a hundred different pages with different print or patterns on them, without any intervention from you in between each page.

Unlike the traditional analog approach, the cost of each print is basically identical to the previous print, with no reduction for volume. This means that, in terms of cost per print, it is no more expensive per shirt to print a run of five or of fifty shirts as it is to print a run of five hundred or five thousand shirts. While the traditional analog approach is economical for runs of many hundred or even thousands of garments or rolls, the analog approach is very un-economical for runs below a few hundred prints.

Additionally, the traditional analog print business uses toxic chemicals and enormous amounts of water, both of which create significant pollution -- to the point that the environmental regulations in most developed countries make such operations impossible, which is why most garment manufacture and printing is done in developing nations far from the markets where those textiles and garments will eventually be sold. Digital printing -- and especially the Kornit digital printers and ink -- are much more eco-friendly and do not produce toxic byproducts.

The strengths of the digital printing approach for printed garments and textiles should be fairly obvious -- as are some of the major industry and consumer trends which are increasingly playing to the strengths of the digital approach at the expense of the traditional analog methods. The radical changes which have transformed the retail landscape with the advent of e-commerce, Amazon.com, social media, and accelerated fashion trends (with shorter durability) all play to the strengths of digital textile printing.**

Whereas the older analog methods necessitated large bets on big runs of garments or textiles, often produced overseas with lengthy supply chains and significant amounts of time involved between concept and go-to-market, digital printing enables the economical production of smaller batches, with greater flexibility, produced much more quickly in order to take advantage of recent trends or developments, with much shorter supply chains (fabric or garments can be printed in the same markets where they will be sold).

The analog approach entails significant risk for retailers and other industry participants, making big bets on products well in advance, with limited flexibility to change once the large batches are produced and shipped to stores or warehouses. The digital approach enables much more experimentation with much lower exposure if something doesn't work out -- and with the ability to change "on the fly," almost instantly.

The major drawbacks to the digital approach have been quality, including the lack of ability to print on various fabric types or colors, as well as the number of machines and printing steps involved in the digital process itself. Kornit Digital's innovations include designing printers which combine the multiple steps that would otherwise require numerous machines and production steps, saving both time and money in the process. Additionally, Kornit's printers are able to handle types of fabric which other digital printing manufacturers cannot satisfactorily print.

We believe that Kornit is an example of the kind of well-run business positioned to take advantage of major "currents" that are driving the future of retail, and thus an excellent illustration of the kind of company we look for in our investment strategy. 


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* At the time of publication, the principals of Taylor Frigon Capital Management owned securities issued by Kornit Digital (KRNT).

** At the time of publication, the principals of Taylor Frigon Capital Management did not own securities issued by Amazon (AMZN).



Disclosures: Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Taylor Frigon Capital Management LLC (“Taylor Frigon”), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from Taylor Frigon. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Taylor Frigon is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the Taylor Frigon’s current written disclosure Brochure discussing our advisory services and fees is available upon request. If you are a Taylor Frigon client, please remember to contact Taylor Frigon, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services.



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Investment Climate July 2018: The Nonsensical Capital Gains Tax


Investors in Taylor Frigon Capital Management’s growth investment strategies enjoyed the best quarterly performance they have had in the last few years.  All portfolios ended the quarter with YTD performance that was well in excess of the general market, and the performance was broad-based, across a number of industries and sectors.  In our last quarterly commentary, we outlined a major change that is brewing in computer architecture for which we are positioning our portfolios. Some of those themes have already started to produce. And even some of our “older theme” positions have taken off, as well. It is particularly notable that we believe we are seeing the beginning and by no means the end of certain trends.  Thus, there is no one aspect of our portfolio management process to which we can attribute the performance.

We also noted last quarter that we transitioned out of a number of very long-term holdings that resulted in significant realized gains.  This transition has evolved over the last couple of years and we are pleased that we are much closer to completing that process than beginning it.  Needless to say, this results in the realization of long term capital gains and, therefore, the payment of capital gains taxes.  We will do everything we can to mitigate the impact of capital gains in our strategies, and considering we generally hold positions in our portfolio for many years exemplifies that approach, in contrast to management styles with higher turnover.  However, there comes a time when we have to realize our gains and reposition our capital in places we think can provide better returns in the future.

This necessity provides an excellent opportunity to reflect on tax policy and its impact on business and investment.

Anybody who is facing the hard, cold facts of paying taxes on capital gains understands how annoying, and even painful they can be.  In high-tax states like California and New York it is simply excruciating!  This allows those payers to understand that taxation affects behavior.  It often affects actions so much that people will make very bad investment decisions just to avoid taxation.  One example happens when investors blindly look to realize losses in companies that may be very solid long-term investments just so they can offset capital gains.  In other words, incentives matter, and tax incentives can lead to self-damaging decisions.

We struggle with the fact that tax law is inept, demonstrated by the fact that long term investors in real estate are given a favorable way to avoid capital gains taxes (1031 tax free exchanges, or “Starker Exchanges”) for “exchanging” (another word for “trading”) from one “like-kind” property to another, if done using a proper intermediary.  However, if one were to “exchange” (or trade) shares of Home Depot common stock for the shares of Lowes common stock (a like-kind exchange if there ever was one!) and did so by selling the Home Depot shares at a higher price than they had originally paid for them, he or she would have to pay a capital gains tax on the profit.  This creates a disincentive to making the trade, and a disincentive to investing in stocks altogether.  It favors investment in real estate over investment in the equity of a corporation.  It also incentivizes the real estate investor to over-pay for property just to avoid the tax (under 1031 exchange rules, the investor must identify a new property within 180 days) thereby driving the prices of properties higher than they would have been if the playing field were level.

None of this activity is grounded in sound economics.  It ultimately results in distortions and misallocation of capital, all of which hurts the economy, and ultimately costs us all in the form of lost jobs and even failed business.  With all the talk about taxes in the last year (and we would add that we believe there were some very positive aspects of the new tax law), we would’ve hoped the “un-economic” aspects of taxation would be addressed.  But they were not.  In many cases, taxes just got more complex, or at least were not made any simpler.

When we address this topic, we are often asked about a solution.  We have long stressed the solution is in true simplicity and a broadening of the tax base.  Here, we would argue for the lowest, flattest tax rate applied across all forms of income such that the incentives are all equally aligned to foster economic activity, favoring no one group or industry, and giving everyone a stake in the system.

Does that sound simple enough?

It is.

Do we think it will happen?

No.

Why?

Because politicians make the rules.

Meanwhile, we will continue seeking out companies that make it possible to, as Dick Taylor would say, “get by in spite, ”  and preferably “THRIVE” in spite!
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Disclosures: Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Taylor Frigon Capital Management LLC (“Taylor Frigon”), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from Taylor Frigon. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Taylor Frigon is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the Taylor Frigon’s current written disclosure Brochure discussing our advisory services and fees is available upon request. If you are a Taylor Frigon client, please remember to contact Taylor Frigon, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services.

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